China Mobile’s (NYSE:CHL) recent advertisement touting the launch of a new brand for mobile services next month has fueled fresh speculation about an imminent iPhone deal. The carrier announced late last week that it will introduce a new service at its 4G global partners conference in Guangzhou on December 18.  Going by the conference’s 4G theme and the carrier’s statements in the past about launching its TD-LTE network before the end of the year, the new service likely pertains to 4G. The carrier has been splurging on its 4G network in recent quarters and expects to incur over $7 billion in build-out costs this year. Welcoming the new network with the iPhone could make for a good move by the carrier, which will be looking to recoup its costs faster and wrest back some of the market share advantage it has lost to rivals in recent years.
As for Apple (NASDAQ:AAPL), a deal with China Mobile opens up a huge subscriber base of 750 million that has largely remained untapped in the absence of iPhone subsidies. Apart from the incompatibility issues with China Mobile’s 3G TD-SCDMA network, it is likely that the expensive nature of an iPhone contract – which entails huge carrier subsidies to make the smartphone affordable for the average consumer - has been a sticking point in recent negotiations. Qualcomm’s recent launch of baseband chipsets that enable access to not only China Mobile’s 3G network but also its upcoming TD-LTE network allows Apple to overcome the technological challenge and launch a China Mobile-compatible iPhone. However, it will be interesting to see if Apple launches a sub-$400 iPhone for the emerging markets, or sets an unlikely precedent by offering a concession either in subsidies or any other form to land the China Mobile deal.
$45 Billion Opportunity
Either way, a deal with the largest wireless carrier in China would be worth billions for Apple. China Mobile had 10 million iPhone users in October 2011, and in the next four months, it added another 5 million, implying an addition of almost 1.25 million iPhone users to its network each month. For the four months prior to October 2011, China Mobile had added the same number of iPhone users on average. Although we don’t have data for the subsequent months, we can conservatively assume the rate of adoption of unsubsidized grey-market iPhones on China Mobile’s network to have remained fairly constant in the past year.
If China Mobile launches the iPhone to coincide with the unveiling of its 4G network next month and starts off by selling an additional 1.5 million iPhones every month, the carrier could end up with about 20 million additional iPhone activations in 2014.
Going forward, it could sell around 30 million additional iPhones in 2015 at a little higher than the 2014 rate. To arrive at the long-term average sales, we look at AT&T’s percentage of iPhone activations to total retail subscriber base for 2012. AT&T had about 21.3 million iPhone activations in 2012, and it ended the year with more than 77.8 million subscribers, taking the percentage close to 27% in about five years for which it had the iPhone.
If China Mobile were to reach this percentage by 2020, it could be selling close to 200 million additional iPhones a few years out. In our analysis, we are taking a more conservative estimate of 100 million additional iPhones by 2020 considering the more competitive dynamics at the lower end in China. Additionally, accounting for the potential margin hit of a China Mobile deal, we assume the iPhone average pricing to decline from about $600 currently to $350 and margins from about 47% currently to less than 27% by the end of our forecast period (2020). This would increase Apple’s value by $45 billion and our price estimate to $650, an upside of about 10% to our current $600 price estimate.
You can move the iPhone pricing trend line in the chart below to make your own forecast for Apple’s value.
Our assumptions are contingent on China Mobile actually leading the 3G race in the same way as it has dominated 2G. We also expect the iPhone to be more successful on China Mobile than it has been on the other two carriers given that the bigger carrier has a higher mix of the more affluent Chinese populace. This can be inferred from the fact that despite lagging in 3G coverage, China Mobile has a mobile ARPU that exceeds the other two carriers’ by $3, or about 45%. The current 2G environment is heavily biased in favor of China Mobile, but its 3G advantage is not so significant. If China Mobile is unable to leverage its huge 2G lead and turn it into a 3G/4G advantage, the scenario may not play out as described above. Having China Unicom and China Telecom in the bag may help Apple cover a bit of lost opportunity in China Mobile, but for the China story to play out, its largest wireless carrier must deliver.Notes: